Deduction of state and local taxes is a gift to high-tax states. Trump wants to end it.
Democrats are skilled and enthusiastic class warriors, so we can expect an envy offensive as Congress turns its attention to the Trump tax proposals. We will surely hear daily about the “party of the rich” shoveling money toward millionaires and billionaires at the expense of the restive working class that elected The Donald in the first place.
And it’s certainly true that some of the reforms would lighten the tax burden on many of the well-to-do. It would be hard for any tax-cut proposal to do otherwise, given that 85 percent of federal income taxes are paid by the top 16 percent of earners (those with incomes above $100,000).
In prosecuting this campaign, however, the Democrats had best be careful, for the president’s tax package contains a fiendishly clever counterattack on his opponents’ left flank: He intends to roughly double the standard deduction, partly paying for it by taking away the deductibility of state and local taxes.
Blue states, where Trump is reviled, tend to have high taxes and are home to the highest proportions of taxpayers who itemize and therefore benefit from the current system. So the liberal commentariat has dismissed this proposal as mean-spirited vengefulness. And since similar reforms failed to win congressional approval back in the Reagan years, it is widely assumed they will do so again.
Such critiques are way off the mark. These conjoined proposals are politically savvy and make splendid economic sense as well.
Start with the fact that, nationwide, only about 30 percent of taxpayers itemize deductions. For 70 percent of the electorate, then, the overall package is a winner even before you consider any of its proposed rate cuts.
Then take a closer look at that 30 percent. According to the Tax Policy Center, the current state/local deduction allows the average itemizer to shelter almost $11,500 from federal tax. The details of the proposed standard deduction are not finalized, but at the plan’s unveiling, National Economic Council director Gary Cohn said it could rise by $6,300 for individuals and $11,400 (from $12,600 to $24,000) for couples filing jointly.
That means that as many as half of itemizing couples filing jointly, nationwide, will save money or be left unharmed by these proposals. In 40 states, the average amount claimed in state/local tax deductions is less than the planned $11,400 hike in the standard deduction for couples.
In sum, these proposals deliver the goods to the great majority of taxpayers who take the standard deduction — that is, the working and middle classes. They also likely deliver net benefits to the average itemizer in most states.
Further, the folks who do not benefit are — you guessed it — the rich. The Congressional Research Service reports that the average amount of the state/local deduction exceeds the proposed $6,300 increase in the standard deduction for individuals only when adjusted gross incomes cross the $200,000 threshold.
So these proposals are not just likely to be broadly popular but are in fact what progressives would call, er, “progressive.” It’s going to be great fun to watch the Democrats, who like to think they have a monopoly on virtue, doing backflips to defend the interests of 1 Percenters.
It’s going to be great fun to watch the Democrats, who like to think they have a monopoly on virtue, doing backflips to defend the interests of 1 Percenters.
Perhaps most important, however, is the effect this plan will have on the Democrats — behind their lines, in their strongholds. Thanks to the state/local deduction, liberals in deep-blue states have been exporting their tax burdens to more fiscally prudent jurisdictions for decades.
Consider the average New York itemizer, for whom the state/local deduction adds up to about $21,000. At the top federal rate of 39.6 percent, that could mean a federal tax saving of as much as $8,300 — which revenue must be made up by taxing others.
This is not only unfair; it is fuel for the growth of big local government. For our hypothetical New Yorker, the effective amount she pays for the services provided by the state and locality is not her $21,000 gross state and local tax bill, but perhaps $12,700 after the money she saves on her federal taxes is taken into account. It’s like shopping at Nordstrom while paying Walmart prices.
Losing such discounts may, of course, cause a few 1 Percenters to rethink their primary addresses. But a much bigger worry for Democrats is that itemizers in every state or locality with a higher-than-average tax rate might have a new and different view of local-government spending.
It’s easy to applaud expanded social programs or shrug indifferently about bloated public payrolls when an extra dollar of spending is really, as in New York, only 60 cents of one’s net tax liability. But if the days of local tax exporting are ended, an era of local fiscal responsibility and political competition just might dawn.
And that may be what scares Democrats the most about this plan.
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